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Cost-Benefit Analysis for Investment Decisions: Chapter 6 (Dealing With Uncertainty and Risk in Investment Appraisal)

Author

Listed:
  • Glenn Jenkins

    (Queen's University, Canada and Eastern Mediterranean University, Cyprus)

  • Chun-Yan Kuo

    (Queen's University, Canada)

  • Arnold C. Harberger

    (University of California, Los Angeles, USA)

Abstract

In the financial cash flow analysis, a set of values for the project variables are selected to carry out the analysis for the base case that are projected over the life of the investment project. The values of these variables used in the analysis and the resulting outcomes from a predictive model are single values. In reality, uncertainty, which refers to variability in the value, is always present surrounding each of the future values of a project's key variables throughout the project life. In some cases especially environmental and health projects, because of lack of scientific knowledge and presence of technological innovation, it would be even more difficult to make projections. The uncertainty is further compounded as the effects of the project would be spread over a long period of time in the future. This chapter shows how to move from the deterministic world developed in the base case to a dynamic and probabilistic world in which uncertainty and risk in outcomes prevail in order that the analysis can present more objective and realistic results for decision makers. It also discusses how uncertainty and risk can be addressed and mitigated while managing the project.

Suggested Citation

  • Glenn Jenkins & Chun-Yan Kuo & Arnold C. Harberger, 2011. "Cost-Benefit Analysis for Investment Decisions: Chapter 6 (Dealing With Uncertainty and Risk in Investment Appraisal)," Development Discussion Papers 2011-06, JDI Executive Programs.
    • Handle: RePEc:qed:dpaper:19999
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    References listed on IDEAS

    as
    1. K. G. Balcombe & L. E. D. Smith, 1999. "Refining the use of Monte Carlo techniques for risk analysis in project planning," Journal of Development Studies, Taylor & Francis Journals, vol. 36(2), pages 113-135.
    2. Savvides, Savvakis C., 1994. "Risk Analysis in Investment Appraisal," MPRA Paper 10035, University Library of Munich, Germany, revised 14 Aug 2008.
    3. Savvides, Savvakis C., 2000. "Market Analysis and Competitiveness in Project Appraisal," MPRA Paper 9796, University Library of Munich, Germany.
    4. Charles R. Blitzer & Donald R. Lessard & James L. Paddock, 1984. "Risk-Bearing and the Choice of Contract Forms for Oil Exploration and Development," The Energy Journal, International Association for Energy Economics, vol. 0(Number 1), pages 1-28.
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    Cited by:

    1. Sener Salci & Glenn P. Jenkins, 2016. "Incorporating Risk and Uncertainty in Cost-Benefit Analysis," Development Discussion Papers 2016-09, JDI Executive Programs.

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    More about this item

    Keywords

    Uncertainty; Risk; Investment Appraisal;
    All these keywords.

    JEL classification:

    • H43 - Public Economics - - Publicly Provided Goods - - - Project Evaluation; Social Discount Rate

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